My most recent books are the Leader's Guide to Radical Management (2010), The Leader's Guide to Storytelling (2nd ed, 2011) and The Secret Language of Leadership (2007). I consult with organizations around the world on leadership, innovation, management and business narrative. At the World Bank, I held many management positions, including director of knowledge management (1996-2000). I am currently a director of the Scrum Alliance, an Amazon Affiliate and a fellow of the Lean Software Society. You can follow me on Twitter at @stevedenning. My website is at www.stevedenning.com.

Why Apple And GE Are Bringing Back Manufacturing

One way President Obama acquired a reputation for being “hostile to business” was his propensity to pose awkward questions to business leaders. In February 2011, for instance, in the middle of a breakfast with the titans of Silicon Valley, President Obama declined to offer the kind of adulation to which these warrior gods of the C-suite have become accustomed. Instead, he interrupted Steve Jobs, the legendary CEO of Apple, and asked what it would take to make iPhones in the United States.

“Those jobs are gone,” Jobs is said to have snapped back, like a professor to a student who hadn’t done his homework, “And they’re not coming back.”

Sadly, Steve Jobs himself is now gone, but it turns out that some of the manufacturing jobs that were systematically shipped overseas for several decades—in the process, devastating US manufacturing and the US economy—are now coming back to America. Admittedly, the return flow is still a trickle, compared to the flood of industries that have been abandoned to other countries. What took decades to lose can’t be rebuilt overnight. But the signs are undeniable. US manufacturing is making something of a comeback.

The return of manufacturing

Tim Cook, Jobs’s successor as CEO of Apple, announced in an interview with Brian Williams on NBC last night that Apple will resume manufacturing in the US next year. “Next year,” he said, “we will do one of our existing Mac lines in the United States.” Cook told BusinessWeek that Apple plans to spend $100 million on manufacturing in the US in 2013.

Similarly, GE is spending some $800 million, according to Charles Fishman in a great article in The Atlantic, to re-establish manufacturing in its giant facility—until recently, almost defunct—at Appliance Park, in Louisville, Kentucky. In February 2012, GE opened an all-new assembly line to make cutting-edge, low-energy water heaters. In March 2012, GE started a second assembly line to make new high-tech French-door refrigerators. Another assembly line is under construction make a new stainless-steel dishwasher starting in early 2013. “I don’t do that because I run a charity,” Jeff Immelt, CEO of GE, said at a public event in September. “I do that because I think we can do it here and make more money.”

GE and Apple are not alone. Fishman reports that Whirlpool is bringing mixer-making back from China to Ohio. Otis is bringing elevator production back from Mexico to South Carolina. And Wham-O is bringing Frisbee-molding back from China to California.

The most short-sighted business decision in history: out-sourcing

Changes in relative economics are part of the reasons for the change. Oil prices are three times what they were in 2000. Natural gas in the US is a quarter of what it is in Asia. Chinese wages are five times what they were in 2000 and are expected to keep rising rapidly. And labor is a steadily decreasing percentage of the cost of manufacturing.

But even more important than these shifts in prices is the growing realization that the massive international outsourcing that took place over the past few decades didn’t make sense in the first place.

“Just five years ago, not to mention 10 or 20 years ago,” writes Fishman, “the unchallenged logic of the global economy was that you couldn’t manufacture much besides a fast-food hamburger in the United States… There was no reason design and marketing could not take place in one country while production, from the start, happened half a world away.”

A factory is a laboratory

But a funny thing happened, writes Fishman, when GE decided to bring manufacturing of its innovative GeoSpring water heater back from the “cheap” Chinese factory to the “expensive” Kentucky factory.

“The material cost went down. The labor required to make it went down. The quality went up. Even the energy efficiency went up. GE wasn’t just able to hold the retail sticker to the ‘China price.’ It beat that price by nearly 20 percent. The China-made GeoSpring retailed for $1,599. The Louisville-made GeoSpring retails for $1,299.

“Time-to-market has also improved, greatly. It used to take five weeks to get the GeoSpring water heaters from the factory to U.S. retailers—four weeks on the boat from China and one week dockside to clear customs. Today, the water heaters—and the dishwashers and refrigerators—move straight from the manufacturing buildings to Appliance Park’s warehouse out back, from which they can be delivered to Lowe’s and Home Depot. Total time from factory to warehouse: 30 minutes.”

The designing-making gap

Bringing industries back home is thus leading to important discoveries. Although GE’s water heater was conceived, designed, marketed, and managed from Louisville, it was made in China. GE discovered that it barely had the capacity to make them in America.

GE’s water heater as originally designed for manufacture in China had a tangle of copper tubing that was difficult to weld together. In the past, GE had been shipping the design to China and telling them to “make it”. Confronted with making the water heater themselves, they discovered that “in terms of manufacturability, it was terrible.”

So GE’s designers got together with the welders and redesigned the heater so that it was easier and cheaper to make. They eliminated the tangle of tubing that couldn’t be easily welded. By having those workers right at the table with the designers, the work hours necessary to assemble the water heater went from 10 hours in China to two hours in Louisville.

“For years,” Fishman says, “too many American companies have treated the actual manufacturing of their products as incidental—a generic, interchangeable, relatively low-value part of their business. If you spec’d the item closely enough—if you created a good design, and your drawings had precision; if you hired a cheap factory and inspected for quality—who cared what language the factory workers spoke? … It was like writing a cookbook without ever cooking…. there is an inherent understanding that moves out when you move the manufacturing out. And you never get it back.”

What is only now dawning on the smart American companies, Lou Lenzi, head of design for GE appliances told Fishman, is that when you outsource the making of the products, “your whole business goes with the outsourcing.”

Wrong goal: maximizing shareholder value

While several decades of outsourcing were under way, why didn’t these smart managers think about the importance of innovating and protecting innovations? Why didn’t these well-educated managers realize that it was important to have designers, engineers, and assembly-line workers talk to each other? Why didn’t these MBA graduates realize that by outsourcing they were mortgaging the future of their firms?

The root cause is that these firms weren’t focused on building the future. Instead, they were focused on maximizing shareholder value. By taking a narrow view of costs, with a principal focus on labor costs, it could appear on a spreadsheet that shipping factories and jobs to China would help the bottom line and pop the share price, and along with that, eye-popping management bonuses.

“About 60 percent of the companies that offshored manufacturing didn’t really do the math,” Harry Moser, an MIT-trained engineer told Fishman. “They looked only at the labor rate—they didn’t look at the hidden costs.”

“There was a herd mentality to the offshoring,” John Shook, the CEO of the Lean Enterprise Institute, in Cambridge, Massachusetts told Fishman. “And there was some bullshit. But it was also the inability to see the total costs—the engineers in the U.S. and factory managers in China who can’t talk to each other; the management hours and money flying to Asia to find out why the quality they wanted wasn’t being delivered. The cost of all that is huge.”

When managers managed with a spreadsheet rather than real-world knowledge about what was actually going on in the factory and what were its possibilities, they overlooked hidden costs of the erosion of skills, the loss of quality and constraints on innovation. They also missed the potential added value to customers that could be generated by designing and manufacturing things differently.

They also missed the costs and risks of an international supply chain, which is increasingly out of step with the shorter, faster product cycles. You only need one or two international hiccups for all the potential savings in outsourced labor costs to be eroded. Moreover, as labor becomes an ever smaller part of the overall process, labor savings become less and less relevant. As products become more high-tech, production is more complicated, and the quality, rather than the cost of labor, becomes a priority.

Managers have blamed hostile unions as one of the motivations for moving manufacturing overseas. But the intransigence of unions was in large part the consequence of uncollaborative management practices. Thus when Toyota took over the strike-ridden NUMMI plant in California from General Motors in the 1980s, the previous intractable labor disputes vanished. Same staff. Same unions. Different management. Different result. Now managers are realizing that better management practices allow workers to participate in workplace decision making.

The cause of the outsourcing disease: shareholder value

Encouraging as the developments at Apple and GE may be, the amount of manufacturing coming back will remain a trickle unless managers get to the root cause of the abandonment of so many industries: a focus on maximizing shareholder value.

Outsourcing was the most egregious error generated by the misguided shareholder value movement, which was wrong on a variety of grounds, but most importantly that it doesn’t work even on its own terms. Pursuit of shareholder value maximization doesn’t actually maximize shareholder value.

Thus a focus on maximizing shareholder value leads the firm to do things that detract from maximizing long-term shareholder value, such as outsourcing, favoring cost-cutting over innovation, pursuit of “bad profits” that destroy brand equity, and excessive C-suite compensation. The net result can be seen in the disastrously declining ROA and ROIC over the last four decades in large US firms as documented by Deloitte’s Shift Index.

Outsourcing is thus not an isolated event. It was the result of the underlying philosophy of shareholder value.

The resurrection of American manufacturing will require more than simply bringing back production to America. Global manufacturing is at the cusp of a massive transformation as the new economics of energy and labor plays out and a set of new technologies—robotics, artificial intelligence, 3D printing, and nanotechnology—are advancing rapidly. Together these developments will spark a radical transformation of manufacturing around the world over the next decade. The winners in the rapidly changing world of manufacturing will be those firms that have mastered the agility needed to generate rapid and continuous customer-based innovation.

Success in this new world of manufacturing will require a radically different kind of management from the hierarchical bureaucracy focused on shareholder value that is now prevalent in large firms. It will require a different goal (delighting the customer), a different role for managers (enabling self-organizing teams), a different way of coordinating work (dynamic linking), different values (continuous improvement and radical transparency) and different communications (horizontal conversations). Merely shifting the locus of production is not enough. Companies need systemic change—a new management paradigm.

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This is great and all, but I’ll bet you Steve Jobs was still right- we won’t be employing nearly as many in US factories as they had in Chinese factories to make the same thing. Our workers are higher wage and more productive (two ways of saying the same thing). The manufacturing may come back, but it won’t be as many jobs- and that’s not necessarily a bad thing.

Thanks for your comments. I agree that there is no going back to the way things were. As I have pointed out in other articles, in many industries there is a lack of a critical mass of expertise. What was lost over decades cannot be rebuilt in a day. However the whole dynamics of manufacturing are changing dramatically both in terms of technology and economics. So new ballgame. The jobs that emerge in this new scene will be different, as you point out. How many jobs there are will depend on how agile firms are in exploiting the vast opportunities now opening up.

No problem you love Steve Jobs. That’s okay and I respect that. But that is not the point here. We have two sides; greedy people and consumers. What is the right approach to please both? No consumers = no billionaires They just hired a smart boy to tell them what the market is all about. Maybe you are a super billionaire, but what will you do when this country is a empty town because we working people have to run away to avoid the worst natural catastrophe that is called “Wall Street Greedy”? Have fun, in your bunker many feet under ground:) enjoy :)

If the families in our country do not have jobs, good jobs, than how will they pay for the products that they want to buy. That is the best reason for bringing the good jobs back to this country, It is called “self interest”

Thank you…not to mention that we can’t buy your products if we don’t have any money. I hope the trickle becomes a flood, in this case. I also hope someone re-thinks the changes to commodities…it needs to go back to its original purpose, for the good of this country!